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The explosive growth in the use of digital cameras and MP3 players combined with the demise of the floppy drive has been a boom for companies that make flash cards and Universal Serial Bus [USB] drives. Milpitas, California based SanDisk (NASDAQ:SNDK) makes flash memory cards for digital cameras, MP3 players, the Cruzer line of USB drives and gaming cards for use in Sony's PlayStation Portable [PSP].

So what attracted me to this well known company that I felt was overvalued just a few months ago? While the stock has retreated from a high of almost $80 in January to the current $48.10, the company has released an exciting new line of MP3 players, acquired a key competitor and is well positioned to benefit from the launch of Microsoft's new operating system Windows Vista in 2007.

While Apple's (NASDAQ:AAPL) iPods remain the clear leader in the MP3 market, competitors like Sandisk and Singapore based Creative Technology (OTCPK:CREAF) have been nipping at Apple's heels for years. Sandisk's Sansa line of players have been a great alternative to iPods for music lovers who use a subscription based music service like RealNetwork's (NASDAQ:RNWK) Rhapsody To Go, Yahoo Music Unlimited To Go or Napster To Go.

sandisk mp3I personally bought a couple of Sansas over the last two years and could not be happier with my player. However, no player on the market has managed to capture the "cool factor" that has propelled the iPods to their status as a market leader. Until now. With the release of the sleek and highly attractive e200 series of MP3 players, Sandisk stands a good chance capture market share in this highly profitable and competitive segment this holiday season.

Beyond MP3 players, SanDisk also stands to benefit from other emerging areas of growth. Samsung unveiled a 32GB flash-disk based laptop earlier this year, which has distinct advantages over hard drives but remains prohibitively expensive. While the possibility of flash based laptops is a few years out, hybrid hard drives [HDD] that combine a regular hard drive with a 1 GB flash chip to improve performance and conserve power are right around the corner with the release of Windows Vista. Instead of a hybrid hard drive, Windows Vista users can also use a feature called ReadyBoost that can improve the performance of the system by attaching an external flash memory device like a USB Key. The ability to increase the memory of a computer without having to open it up and adding more RAM will certainly appeal to many users and is likely to increase the sales of large USB key drives.

Sandisk has been attempting to increase market share by significantly dropping prices on its USB Key drives and the flash chips it supplies to computer manufacturers. This quest for market share along with increased R&D costs has indeed caused a drop in margins, clearly spooking Wall Street in the process and leading to a drop of $12.58 a share or more than 20% on October 20th after Sandisk reported third quarter results. While income dropped 4% to $103.3 million from $107.4 million, revenue actually increased a healthy 27% to $1.85 billion, providing the perfect opportunity to get into this growth stock in a moment of weakness. With a solid balance sheet and a forward P/E of 17.24, SanDisk could prove to be an attractive long-term investment.

Competitors:

SanDisk faces stiff competition from Samsung, Hynix, Micron Technology (NASDAQ:MU) and Intel (NASDAQ:INTC) in the flash memory segment as well as Creative Technology (OTCPK:CREAF) and Apple (OTC:APPL) in the MP3 segment.

The Good:

* SanDisk continues to benefit from the explosive growth in the use of digital cameras, MP3 players and USB key drives.
* SanDisk recently launched a highly attractive line of MP3 players that work well with subscription music services like Rhapsody.
* Windows Vista with its ReadyBoost feature and the launch of hybrid hard drives should fuel growth in the flash memory segment.
* SanDisk has a solid balance sheet with almost three times the total assets to total liabilities.
* The recent 20% drop in price after the release of third quarter results could prove to be an attractive point of entry.

The Bad:

* Net income dropped 4% in the recent quarter due to a drop in gross margins from 37% to 32%.
* The MP3 player segment is highly competitive and despite attempts by a large number of rivals, Apple continues to maintain its leadership position.
* SanDisk faces strong competition from Samsung, a company that continues to find new and innovative uses for flash.

The Numbers:
sndk numbers

Disclosure: Author has no position in SNDK at the time of publication

Source: Sandisk: Solid Long-Term Holding